Wednesday, December 19, 2012

FYI: Cal App Ct Holds Non-Compliance with HUD Rules for FHA Loans Invalidates Foreclosure, F/C Trustee Not FDCPA "Debt Collector"

Reversing the lower court, the California Court of Appeal, First District, recently held that a mortgagee's failure to have a face-to-face meeting prior to instituting a nonjudicial foreclosure violated federal regulations governing FHA loans, ruling that as conditions precedent incorporated into the borrowers' deed of trust, the federal regulations precluded foreclosure prior to such a meeting, and borrowers were entitled to have the foreclosure action set aside. 


The Court also ruled that:  (1) borrowers could pursue remedies afforded by federal law in addition to those available under California's nonjudicial foreclosure statutes when not inconsistent with the policies behind the state statutes; (2) borrowers' failure to tender the full amount owed on the loan did not bar the requested injunctive relief; and  (3) because the trustee under the deed of trust was not a "debt collector" under the federal Fair Debt Collection Practices Act, borrowers failed to state a claim under the FDCPA for improper debt collection.


A copy of the opinion is available at:


Plaintiffs borrowers ("Borrowers") had a home mortgage loan insured by the Federal Housing Administration ("FHA").  The deed of trust securing the property provided that the trust deed was subject to the servicing requirements of the U.S. Department of Housing and Urban Development ("HUD") governing FHA loans. 


After Borrowers fell behind on their mortgage payments, the owner of the loan ("Loan Owner") initiated a nonjudicial foreclosure action against Borrowers under the California nonjudicial foreclosure statutes.  Accordingly, the trustee ("Trustee") under the deed of trust recorded a notice of default and sent Borrowers a notice of a nonjudicial foreclosure sale.


Seeking damages, cancellation of the pending foreclosure, and declaratory relief stating that Loan Owner and Trustee lack authority to proceed with a nonjudicial foreclosure until they comply with HUD servicing regulations, Borrowers filed a complaint against both Trustee and Loan Owner.  In their complaint, Borrowers alleged among other things:  wrongful foreclosure, breach of contract, and violation of the federal Fair Debt Collection Practices Act ("FDCPA").


Borrowers based their wrongful foreclosure claim on the supposed failure to meet with Borrowers face-to-face prior to initiating the foreclosure action, a requirement, Borrowers asserted, was incorporated by reference into the deed of trust. 


Specifically, the "FHA California Deed of Trust" provided in part:  "[R]egulations issued by the [HUD] Secretary will limit Lender's rights, in the case of payment defaults, to require immediate payment in full and foreclosure if not paid.   This Security Instrument does not authorize acceleration or foreclosure if not permitted by regulations by [HUD]." 


To support their FDCPA claim, Borrowers further asserted that Trustee was a "debt collector" under the FDCPA and that Trustee thus had a duty to provide Borrowers with a 30-day advance debt validation notice required by the FDCPA prior to recording the notice of default.  Borrowers alleged that, had they received such notice, they would have been able to have certain insurance payments credited toward their mortgage.


Lenders demurred, and the lower court sustained the demurrer without leave to amend.   In so doing, the lower court ruled in part that HUD regulations permitted no private right of action and did not designate Borrowers as third-party beneficiaries of any agreements between Lenders and FHA.  The lower court also ruled that Borrowers failed to adequately allege tender of the amounts needed to reinstate their loan.  Borrowers appealed. 


The Court of Appeal reversed as to Borrowers' claims for wrongful foreclosure and injunctive and declaratory relief, but affirmed as to their other causes of action.


As you may recall, FHA mortgagees must adhere to certain mortgage-servicing requirements upon default or imminent default, including the duties to "engage in loss mitigation actions for the purposes of providing an alternative to foreclosure . . . ."  and to "have a face-to-face interview with the mortgagor, or make a reasonable effort to arrange such a meeting, before three full monthly installments due on the mortgage are unpaid.  If default occurs in a repayment plan arranged other than during a personal interview, the mortgagee must have a face-to-face meeting with the mortgagor, or make a reasonable attempt to arrange such a meeting within 30 days after such default and at least 30 days before foreclosure is commenced . . . .:  See 12 U.S.C. § 1715u(a); 24 C.F.R. § 203.604(b); 24 C.F.R. § 203.500


In addition, the FDCPA prohibits "debt collectors" from engaging in abusive debt collection practices.  See 15 U.S.C. § 1692.  The FDCPA in turn defines "debt collector" as "any person who uses any instrumentality of interstate commerce or the mails in any business the  principal purpose of which is the collection of any debts, or who regularly collects or attempts to collect, directly or indirectly, debts owed or due or asserted to be owed or due another . . . ."  15 U.S.C. § 1692a(6).   See also 15 U.S.C. §1692f(6)(prohibiting debt collectors from "Taking or threatening to take any nonjudicial action to effect dispossession or disablement of property if— (A)there is no present right to possession of the property claimed as collateral through an enforceable security interest").


In noting that the deed of trust in this case specified it was subject to HUD regulations, the Appellate Court stressed the regulations' requirement to hold a "face-to-face meeting" with Borrowers before foreclosure could take place.   In so doing, the Court rejected Lenders' assertion that the duties under the regulations ran to HUD rather than to Borrowers.   The Court reasoned that, contrary to the defendants' arguments, the issue in this case was not enforcement of mortgagee's duties toward HUD, but whether foreclosure is proper if Loan Owner and Trustee failed to comply with HUD servicing requirements as set forth in the FHA deed of trust. 


Examining the policies underlying HUD servicing requirements, and citing a case from another jurisdiction which involved identical FHA deed of trust provisions, the Appellate Court ruled that the trust deed in this case expressly required compliance with HUD regulations prior to accelerating or foreclosing on Borrowers' loan.  The Court thus ruled that, although Borrowers had no claim for damages, they could enforce compliance with the regulations as conditions precedent to the nonjudicial foreclosure action.  See Mathews v. PHH Mortgage Corp., 724 S.E.2d 196 (2012). 


As the Appellate Court explained, although Borrowers could not bring a private right of action against Lenders, they could seek to prevent the foreclosure until such time as Lenders complied with the applicable HUD regulations.  See Lacy-McKinney v. Taylor Bean & Whitaker Mortgage Corp., 937 N.E.2d 853, 863-64 (Ind. Ct. App. 2010)(observing that public policy of HUD supports conclusion that HUD servicing responsibilities "are binding conditions precedent that must be complied with before a mortgagee has the right to foreclose on  HUD property.").  Accordingly, the Court of Appeal ultimately concluded that Lenders' failure to comply with the requirement to hold a face-to-face meeting with Borrowers allowed Borrowers to assert such noncompliance as an equitable defense to the foreclosure action.


With respect to the relationship between HUD regulations and California law, the Appellate Court further ruled that Borrowers could pursue remedies afforded them under federal law in addition to those available under California's nonjudicial foreclosure scheme.  See California Gold, L.L.C. v. Cooper, 163 Cal. App.4th 1053 (2008) (noting that California courts have allowed parties to pursue additional remedies arising out of nonjudicial foreclosures when not inconsistent with policies behind the nonjudicial foreclosure statutes).  In so ruling, the Court rejected the defendants' various contentions including that the face-to-face interview was not a material term in the deed of trust and had no benefit for the borrower.  The Court noted, among other things, that a face-to-face meeting in this case could prevent the need for foreclosure and that Lenders voluntarily agreed to the terms of the FHA deed of trust when Loan Owner purchased the loan. 


With respect to Borrowers' failure to allege tender of the amount owed on their loan, the Appellate Court stressed that no foreclosure sale had occurred in this case and that Borrowers had alleged Lenders' failure to comply with HUD regulations.    The Court accordingly ruled that Borrowers' failure to allege tender was no bar to their claims for injunctive and declaratory relief based on Lender's failure to conduct the face-to-face interview. 


As to Borrowers' FDCPA claim, noting that federal courts have reached conflicting conclusions about the applicability of the FDCPA to acts taken by trustees in the foreclosure process and disagreeing with the position of the federal Consumer Financial Protection Bureau ("CFPB") that trustees must comply with the entire FDCPA, the Court of Appeal ruled that Trustee was not a "debt collector," because providing notice of a foreclosure sale to a consumer as required by California's Civil Code did not constitute debt collection activity under the FDCPA.  Compare Perry v. Stewart Title Co., 756 F.2d 1197, 1208 (5th Cir. 1985)(mortgagees are not debt collectors under the FDCPA) with Wilson v. Draper & Goldberg, P.L.L.C., 443 F.3d 373, 376-377 (4th Cir. 2006)(trustee sale is debt collection under the FDCPA). 


In so doing, the Court noted that the CFPB policy did not address the specific issue whether the pursuit of a foreclosure, alone, constitutes debt collection under the FDCPA and that Borrowers' complaint alleged only that Trustee gave Borrowers a notice of foreclosure in accordance with California's nonjudicial foreclosure law.  See Santoro V. CTC Foreclosure Services, 12 Fed. Appx. 476 (9th Cir. 2001).  The Court therefore concluded that Borrowers failed to state a claim under the FDCPA for improper debt collection.


Finally, affirming the lower court on the breach of contract claim, the Court of Appeal ruled that Borrowers had no private right of action under the HUD regulations and thus had no cause of action for breach of contract.


Accordingly, the Court of Appeal reversed the lower court as to the claims for wrongful foreclosure and injunctive and declaratory relief, but affirmed as to the other claims. 


Ralph T. Wutscher
McGinnis Wutscher LLP
The Loop Center Building
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Chicago, Illinois 60602
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